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What The Iraq Crisis Really Means For Oil Prices

A backcloth of fresh military turmoil in the Middle East has, not surprisingly, prompted the black gold price to snap higher in recent days. Brent prices rose to their loftiest levels since last September around $113.50 per barrel just yesterday, and reports that rebels in Iraq continue to gain strategic footholds in the country threatens to push the commodity still skywards.

Indeed, news has emerged this morning that ISIS (or Islamic State of Iraq and Syria) rebels have seized control of the Baiji oil refinery in the north, by far the country’s largest production facility. Militants already hold the region surrounding the key Kirkuk-Ceyhan export pipeline in the north of the country and are marching steadily southwards, the heartland of Iraq’s oil industry, and knocking heavily on the door of the capital of Baghdad.

Bank of America-Merrill Lynch quite rightly comments that the current Iraqi crisis echoes what we have seen from the Oil wellprolonged civil unrest in Libya and Syria, noting that “surging violence also means that Iraqi oil output is now unlikely to rise above current levels of 3.5 million barrels of day this year, failing to meet growth expectations”. And in the long term, investment in the country could be axed or delayed should instability continue in the country, the broker warned.

Bank of America expects Brent to remain in a $105-$115 per barrel range should a stalemate ensue or ISIS forces retrench — in the bank’s opinion the two most likely scenarios — but cautions that prices could explode should militants maintain their current momentum.

Indeed, the firm’s analysts say that oil prices could head between $10 and $15 higher should rebel forces battle their way into the streets of Baghdad. And it adds that prices could jump between $40 and $50 should fighters gain control of southern oilfields, a situation that could affect as much as 2.6 million barrels per day’s worth of production.

The scenario is arguably one of the most difficult challenges to stability in the Middle East. The conflict crosses Islamic religious lines, with ISIS — a Sunni extremist group — on a collision course with the Shia-controlled south of the country.

The prospect of a prolonged and bloody civil war is also stoking wider geographical tensions, with the Iraq government yesterday accusing the Sunni state of Saudi Arabia of ‘supporting [rebel] groups financially and morally.’ At the same time fellow OPEC state Iran, where the overwhelming majority of the population are Shia Muslims, is in talks with the United States and Britain over how to solve the crisis.   

With the situation on the ground worsening by the hour, and the threat of another Western excursion onto Middle Eastern soil muddying the waters still further, the possibility of a protracted crisis in Iraq remains a very real threat to regional stability. With this in mind, oil prices could be set to head significantly higher sooner rather than later.

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> Royston does not have interests in any of the investments mentioned in this article.